This blog is about macro-economics, financial markets and the world that has been pulled over your eyes to blind you from the truth.

— Neo: What truth?
— Morpheus: That you are a slave, Neo.

2010-07-25

European banks easily pass walk-in-the-park-no-stress test

My friend Jeff sent me the Bloomberg report about the EU no-stress-just-pretend-and-relax test for banks:

July 23 (Bloomberg) -- European Union stress tests are set to ignore the majority of banks’ holdings of sovereign debt after regulators decided against testing securities held in
their banking books.
“The haircuts are applied to the trading book portfolios only, as no default assumption was considered,” the European Central Bank said in a confidential document July 22 entitled “EU Stress Test Exercise: Key Messages on Methodological Issues.”
[...]
The stress tests will assume a loss of 23.1 percent on Greek debt, 14 percent on Portuguese bonds, 12.3 percent on Spanish debt, and 4.7 percent on German state debt, according to the document obtained by Bloomberg News. U.K. government bonds will be subject to a 10 percent haircut, and France 5.9 percent.

The tests assume the weighted average yield on euro-area five-year government bonds will rise to 4.6 percent in 2011 from 2.7 percent at the end of 2009. The tests also include an increase in the yield on five-year Greek government bonds to as much as 13.9 percent after “interest rate shocks,” the document shows.
[...]
The decision “allows banks to basically underestimate their exposure to distressed peripheral debt,” Win Thin, a senior currency strategist at Brown Brothers Harriman in New York, wrote in a note to clients today. “By leaving out stress tests on the banking book, then a true picture of bank balance sheets will clearly not be obtained.”

What a joke--for the stress test you don't have to count any bonds you intend to hold to maturity... they are estimating that 90% of sovereign bonds are in hold-to-maturity accounts and won't be discounted in the "stress test." Still, seven banks managed to fail.

Obviously, he's right: the whole thing is a joke. By definition, none of the banks are truly solvent, due to the fractional reserve lending. But even if you decide to ignore the built-in insolvency designed into the system, it's simply not believable that all the UK, Irish, French, Spanish, etc. banks are able to pass any serious test. Now, bureaucrats are happy.

The story has always been the same for the past three thousand years: collapses will come, followed by bailouts, both as predictable as the sun is rising every day, until the government collapses along with its banks : that day, Freedom might return, thanks to a minimalistic government and a sound currency, born again from the free market.

[Update: ] The WSJ writes:

LONDON—Europe's "stress tests" were intended to gauge the ability of large banks to weather an economic storm. But the exams relied on some surprisingly docile economic assumptions.

In some of the 20 countries that conducted the tests, regulators figured that property values would keep rising or hold steady in a worst-case economic scenario.

In other cases, unemployment rates in a double-dip recession crept up by as little as 0.1 percentage point from the tests' so-called benchmark scenario, which is based on current economic conditions.